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By Sarah Bush | 09-18-2014 09:00 AM

Schneider: Volatility Will Be a Primary Focus for Investors

As Fed policy tightens over the short term, investors will have to actively manage interest rate exposure while looking ahead to a 'new neutral' in the next three to five years, says PIMCO's Jerome Schneider.

Sarah Bush: Hello, my name is Sarah Bush and I'm at the Morningstar ETF Conference. Today, I'm joined by Jerome Schneider from PIMCO.

Thanks very much, Jerome, for joining us.

Jerome Schneider: Thanks so much for having me. Appreciate it.

Bush: So, I thought maybe we could start out since we had the Fed announcement yesterday just by getting an update on how PIMCO is thinking about rates these days.

Schneider: We're obviously in a transformational phase with the Fed. We're going to potentially have [an end to] quantitative easing, which has now been articulated as finishing in the October timeframe. And as we see, there is an improving job economy. We're, obviously, focused on wage pressures. That's what Chairman Yellen is focused on right now. And that obviously translates into how robust the economic cycle is going be. It's going to be a reflexive positioning for the Fed--meaning, they're going to have to think about how these factors come together and ultimately how they're going to have to tighten rates.

So, we're still thinking it is mid-2015 in terms of rate tightening. For investors, they're going to have to think about how the markets react to this information. And although the language remained markedly the same yesterday, we did get some clarification on what the exit plan was going to be for the Fed, ultimately. And so the stimulus, as we know it--the growing in the Fed's balance sheet--is going to begin to subside and eventually abate. And that's going to obviously have an impact on various markets around the world.

More importantly, it is going to focus on the volatility within the market. That's going to be a primary focus for investors going forward. And what that really means is that you need to find risk attributes within your portfolio to accentuate, to help provide income, to help provide safety and performance, and more importantly, total return--and deaccentuate those that might contribute a little more volatility to the market.

And so, for us, thinking about interest rate exposure is one that you’re going to have to actively manage over the short-term horizon--the cyclical horizon--as the U.S. economy improves, which we believe is going to improve over the next year. But ultimately, thinking about what we call “the new neutral” over the next three to five years translates into an investment thesis. And we believe that the ultimate rate will be around 2% at that point in time. But that doesn't necessarily mean that the Fed isn't going to overshoot rates or undershoot rates. That's something that investors are going to have to contend with over the next six to nine months until we ultimately get our first rate hike from the Fed.

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